All That Glitters / Pow! Bam! Fischer Attacks

The last 20 business days were tough on Stanley Fischer. The dollar steadily lost ground against the shekel and almost every day brought another article blasting the Bank of Israel governor and reporting the pleas from exporters to rein the shekel in. Forecasts abound that the dollar will weaken even further as thousands of speculators and mainly, exporters rush to sell dollars, making the situation even worse.

Yesterday afternoon, after the dollar contracted by more than 1%, breaking the psychological barrier of NIS 3.75 on the downside, he moved. Moments after the official exchange rate was set, Fischer began buying dollars beyond the daily quota of $100 million.

T he central bank released a laconic announcement, short in length and long in significance: "From now on, the Bank of Israel will act in the foreign exchange market in the event of unusual movements in the exchange rate that are inconsistent with underlying economic conditions, or when conditions in the foreign exchange market are disorderly." And it will keep on buying $100 million a day, it added.

Within minutes the dollar had surged 2% from the representative rate and bedlam reigned. Confused traders didn't want to move until they could figure out what was going on.

Fischer spelled it out. From now on, the Bank of Israel won't hesitate to step into the market to stop the dollar's slide. Its tactics have changed. No more predictable moves each day, but commando missions as the central bank sees fit. So why not stop the former practice? Because the central bank fears that ceasing its steady daily dose of dollar purchases would lead the market to suspect it had stopped buying dollars, while the truth is quite the opposite. No, the central bank doesn't mean to act against the trend, say insiders. It knows it can't.

Fischer's strategy is becoming clearer. If the dollar sinks against the shekel because of global trends, he won't twitch. But if its slide worsens because of local speculation in the dollar-shekel arena, he'll pounce. Usually the central bank will act against the trend but it isn't making any promises. This is going to be fascinating.

There are two big questions. Does the bank stand a chance against the markets? And how will its actions affect inflation, which tends to worsen as money floods into the market? Central banks tend to lose battles against trends, but sometimes score victories in the short run. The very announcement by a central bank that it will intervene can unleash a speculative attack that exacerbates the appreciation of the local currency.

Inflation is an even worse problem. But the central bank has spelled this out too: right now, the exchange rate has priority over its traditional role, which is to keep inflation at bay.